Ohiannye Real Estate Recapitalization

Ohiannye Real Estate Company was founded 25 years ago by the current CEO, Robert Ohiannye. The company purchases real estate, including land and buildings, and rents the property to tenants. The company has shown a profit every year for the past 18 years, and the shareholders are satisfied with the companys management. Prior to founding Ohiannye Real Estate, Robert was the founder and CEO of a failed alpaca farming operation. The resulting bankruptcy made him extremely averse to debt financing. As a result, the company is entirely equity financed, with 15 million shares of common stock outstanding. The stock currently trades at GHS 35.20 per share. Ohiannye is evaluating a plan to purchase a huge tract of land in the southeastern United States for GHS 110 million. The land will subsequently be leased to tenant farmers. This purchase is expected to increase Ohiannyes annual pretax earnings by GHS 27 million in perpetuity. Jennifer Fasikabra, the companys new CFO, has been put in charge of the project. Jennifer has determined that the companys current cost of capital is 12.5 percent. She feels that the company would be more valuable if it included debt in its capital structure, so she is evaluating whether the company should issue the debt to entirely finance the project. Based on some conversations with investment banks, she thinks that the company can issue bonds at par value with an 8 percent coupon rate. From her analysis, she also believes that a capital structure in the range of 70 percent equity/30 percent debt would be optimal. If the company goes beyond 30 percent debt, its bonds will carry a lower rating and a much higher coupon because the possibility of financial distress and the associated costs would rise sharply. Ohiannye has a 40 percent corporate tax rate (state and federal). QUESTIONS: 1. If Ohiannye wishes to maximize its total market value, would you recommend that it issue debt or equity to finance the land purchase? Explain. 2. Construct Ohiannyes market value balance sheet before it announces the purchase. 3. Suppose Ohiannye decides to issue equity to finance the purchase. a. What is the net present value of the project? b. Construct Ohiannyes market value balance sheet after it announces that the firm will finance the purchase using equity. What would be the new price per share of the firms stock? How many shares will Ohiannye need to issue to finance the purchase? c. Construct Ohiannyes market value balance sheet after the equity issue but before the purchase has been made. How many shares of common stock does Ohiannye have outstanding? What is the price per share of the firms stock? d. Construct Ohiannyes market value balance sheet after the purchase has been made. 4. Suppose Ohiannye decides to issue debt to finance the purchase. a. What will the market value of the Ohiannye be if the purchase is financed with debt? b. Construct Ohiannyes market value balance sheet after both the debt issue and the land purchase. What is the price per share of the firms stock? 5. Which method of financing maximizes the per-share stock price of Ohiannyes equity